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Muhammad Junaid et al./ Elixir Fin. Mgmt. 63 (2013) 18141-18144 Available online at www.elixirpublishers.com (Elixir International Journal)

Finance Management
Elixir Fin. Mgmt. 63 (2013) 18141-18144

Long run Relationship between Pakistan KSE (Karachi Stock Exchange) and China SSE (Shanghai stock exchange) Markets
Muhammad Junaid*, Faisal Abbas, Hasnain Manzoor, and Aftab Ahmed
Department of Commerce, University of Sargodha, Pakistan.
ARTICLE INFO

Art i cl e h i st ory : Received: 7 August 2013; Received in revised form: 29 September 2013; Accepted: 1 October 2013; Ke y w or d s SSE (Shanghai stock exchange), KSE (Karachi Stock Exchange), Stock Returns, Correlation, VAR, Co-integration, Causality.

A B S T RA CT This study examines integration between Karachi Stock Exchange of Pakistan and Shanghai Stock Exchange of China. Monthly data ranging from January 2001 to December 2010 is included and tested in this paper. This relationship is tested by using descriptive statistics and correlation matrix. Data stationary is ensured by Unit Root Test. Evidence from Granger Causality and Impulse Response Test. The Results shows that SSE and KSE has no long term relationship or impact on each other focusing on the data of KSE (Karachi Stock Exchange) and SSE (Shanghai Stock Exchange).
2013 Elixir All rights reserved

Introduction As the whole world is changing into a globe, the governments of all the countries are providing facilities to international investors to invest in their countries. These investors when go in a country and invest their, definitely the stock markets of that country is influenced by these investments. The researchers from the world are very keen to observe and study the behaviors of stock markets in different countries in response to these investments. These studies are becoming an interesting field of research in academic researches and are increasing the existing knowledge. As there is saturation and less opportunities in the developed countries markets for portfolio diversification, investors from these investors are now targeting the developing countries for portfolio diversification and minimizing their portfolio risks. Stock exchanges are the important parts of any economy and help diversifying the domestic resources in the productive ways. A stock exchange which is efficient in its working helps in growth of the economy, to increase the savings of the people, proper and efficient and effective allocation of resources and funds and helps in attracting the foreign investors to invest in the country. Karachi Stock Exchange is the biggest and known stock exchange of Pakistan. It is contributing more than seventy per cent of total stock transaction of Pakistan. More than 650 companies are listed on Karachi Stock Exchange. It was the best performing stock exchange of the world according to Bloomberg in 2002 when all the Stock Exchanges of the world were facing declination due to the terrorist attacks in USA. Shanghai Stock Exchange is the one of two Stock exchanges of People Republic of China. It is the world 5th largest stock exchanges with respect to market capitalization. It is still not totally open for foreign investment because of the certain local sanctions. It is a basically not for profit
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organization and is under control of the China Securities Regulatory Commission (CSRC). A study was conducted to find the integration between USA stock markets and Middle East stock markets of Egypt, Jordan and Morocco. This study was conducted by the A.F. Darrat, K. Alkhal and S.R Hakim in 2000 and their results suggested that although the Middle East stock exchanges are segmented at international level but they are more integrated with each other at regional level rather than at international level. Moreover, they said that the Egyptian Stock Market is leading the other markets in the Middle East. B.N Haung, C.W Yang, J.W.S Yu in 2000 studying the Causality and co-integration in Stock Markets among USA, Japan and South China growth triangle and found the same results as A.F. Darrat. They said that there is not any relationship in these markets in long run except the markets of Shanghai and Shenzhen. They also said that the Hong Kong Stock Exchange is in Contemptuous with the USA markets while the Hong Kong Stock Market leads the stock changes one day before than the Taiwan Market and feedback causality exists between Shanghai Stock Market and Shenzhen Stock Market. In this paper we are going to examine the integration of the KSE and SSE. The data from both Karachi Stock Exchange and Shanghai Stock Exchange was taken on monthly basis and was examined using statistical tools and procedures to find the correlation between both markets but the results shown that there does not exist any particular relationship on long term basis between both the markets. Objective This paper focuses on the relationship among SSE and KSE. This study can be helpful for investors and portfolio managers in minimizing the risk. This study is also helpful for the prediction of stock market behaviour in future. Objective of

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Muhammad Junaid et al./ Elixir Fin. Mgmt. 63 (2013) 18141-18144 This study was conducted by Naeem in 2000. He found that there is not any evidence of integration and close relationship between these South Asian equity markets and the equity markets of US and UK. He also suggested that this may be helpful for those investors who want to diversify their portfolio risk between these markets. A study conducted by Roca in 1999 to illustrate the integration and relationship in the stock markets of Japan, Taiwan, USA, Singapore, UK, and Australia. He used the Johansson co-integration technique to get the results. He found that that there was no significant integration exists between Australian and other countries stock markets but there is a significant relationship exists between the markets of USA, Australia and UK. Janakirmanan in 1998 and Hsiao in 2003 examined the integration between the equity markets of PacificBasin countries and the Asian Pacific countries respectively with the USA equity market. They both found the integration of US to these countries in only one direction. Leong in 2003 studied the relationships of the five East Asian stock indices. He also found some interdependence between these markets. Elyasiani in 1998 also studied the interdependence and dynamic integration between the developing of Sri Lanka with the equity markets of the major trading partners of Sri Lanka and they declared that there was no significant linkage between the Sri Lankan markets and the other Asian and US equity markets. Gilmore studied the short term and long term linkages between the US equity market and the three other central European equity markets. He found that there is no long term integration linkage between these markets. Three Researchers Yang, Sutanto and Kolari in 2004 studied the long run linkage between US equity markets and the markets of emerging economies of Asian equity markets before the Asian financial markets crisis. They found that there was no integration relationship exists between these markets in before crisis era but such relationship exists up to some extent in the period of crisis. Moreover, they with Min in 2003 also examined the long term and short term relationship during the crisis period. They found that the linkage between these markets were greater and strong during the periods of crisis and also integrated in the post crisis period. Manning in 2002 argued that the equity markets of South East Asian countries convergence were somewhat reserved as well as abruptly halted by the crisis. Data and Methodology This study includes Monthly stock prices indexes for the period of January 2001 to December 2010 for KSE and SSE Stock Markets. The continuous compounded rate of return is calculated by using the following model Return = Rt = ln (Pt / Pt- 1), Where; Rt = Return for given periodt. Pt = Price at closing time Pt-1 = Price at the opening time ln = Natural Log Hypothesis of the study is confirmed by applying the above explained methodologies. Hypothesis: H1: KSE have long term relationship with SSE stock Market. H0: KSE have no long term relationship with SSE stock Market.

this paper is to analyse whether relationship between China and Pakistan stock Markets exist or not by using monthly data. Literature Review A study regarding integration of Pakistani Equity market with International Markets was conducted in 2000. This study showed that there is no significant integration in between Pakistani Equity market and international markets. Moreover, they also described that Pakistani equity market is more attractive for reduction in portfolio risk. They gathered data from 1973 to 1983 on weekly basis, (Saidi and Hussain, 2000). A research was conducted to study the integration relationship in south Asian markets. In this study data from 1995 to 2001 was taken on daily basis. This study showed integration between stock prices of Pakistan, India, Sri Lanka and Bangladesh, (Narayan et al, 2004). Haroon et al. examined the association among south asian equity markets (Bombay stock exchange, Karachi stock exchange, Colombo stock exchange, Dhaka stock exchange) by using monthly data from 1999 to 2009. They used Co-integration, Vector eror correction model (VECM) and unit root test techniques for the examination. Their results explore that there is no association among these four equity markets. Hussain et al (2012) examined the dependency of East Asian equity markets with respect to Karachi Stock exchange of Pakistan by testing monthly data from 2000 to 2010. They used descriptive statistics, correlation, co-integration, unit root test, granger causality, and impulse response function tests to find the results. Results describe that there is no long run relationship among Karachi stock Exchange and East Asian equity markets but there was unidirectional relationship from Japan to China and From Japan to Pakistan. In 2005 a study conducted by Islam et al to know if there exist any relationship between the equity markets of India, Malaysia and Singapore. The study described that there was a relationship between all these markets in both direction except Singapore to Kualalumpur which is in single direction. Lamba in 2005 conducted a study to find if any relationship exists between south Asian markets (Pakistan, India and Sri Lanka) and developed countries USA, UK and Japan equity markets. He found that the south Asian markets are independent from the changes in the stock markets of these developed countries. He also found that Indian stock market is receptive for some extent to the changes in the markets of developed countries while Pakistan and Sri Lanka markets showed no such trends. Using the Johansson co-integration and Granger causality test Glezakos in 2007studied the short term and long term relationship between the Greek equity market and other world leading and big markets. In this study ten developing and developed markets of different countries were studied and data was taken on monthly basis. The results of this study showed that the stock market of Greece was affecting significantly the markets of Germany and France. A study was conducted in 2000 to find the relationship and integration between the South Asian stock markets and the markets of USA and UK. For this study data was taken for the period of 1994 to 1999 and different techniques such as multivariate and bivariate techniques were used to study the integration between these markets.

18143 Results

Muhammad Junaid et al./ Elixir Fin. Mgmt. 63 (2013) 18141-18144 non-stationary at level but becomes stationary at first difference. Data stationary is tested through Augmented Dicky Fuller and Phillip Perron Tests as the later is not that much strict in nature as is ADF test and both tests confirmed similar results (Dickey & Fuller,1981). Data is stationery of same order so we can test co-integration among SSE and KSE. Table 5. Co-integration Unrestricted Cointegration Rank Test (Trace)
Hypothesized No. of CE(s) None At most 1 Eigenvalue Trace Statistic 11.16308 0.029789 0.05 Critical Value 15.49471 3.841466 Prob.**

Table 1. Descriptive Statistics

Mean Median Maximum Minimum Std. Dev. Skewness Kurtosis Jarque-Bera Probability Sum Sum Sq. Dev. Observations SSE -0.00258 -0.008042 0.282779 -0.242526 0.089958 0.553277 3.894578 10.03929 0.006607 -0.307075 0.954909 119 KSE -0.017708 -0.019439 0.448796 -0.241114 0.089027 1.22597 8.562427 183.2233 0 -2.107245 0.935253 119

0.092273 0.000259

0.2017 0.8629

Descriptive Statistics is used to analyze the behavior of the returns. Descriptive statistics employed on the returns showed that SSE has an average return of -0.25 percent and with standard deviation of 8.9 percent. KSE has highest returns than SSE with standard deviation of 8.9 percent and average return of -1.7 percent. It has been observe that SSE and KSE both have same standard deviation. Table 2. Correlations
SSE KSE SSE 1 0.064204 KSE 0.064204 1

Co-integration is used to analyze the long run relationship between different series. Results of Table 5 shows that there exists no long run relationship between SSE (Shanghai stock exchange) and KSE (Karachi Stock Exchange) stock markets. Table 5.1 Unrestricted Cointegration Rank Test (Maximum Eigenvalue)
Hypothesized No. of CE(s) None At most 1 Eigenvalue MaxEigen Statistic 11.13329 0.029789 0.05 Critical Value 14.2646 3.841466 Prob.**

0.092273 0.000259

0.1477 0.8629

From results obtained through correlation it is evident that there is very slight almost negligible correlation among SSE and KSE.
Table 3. VAR statistics
Lag 0 1 2 3 4 5 6 7 8 9 10 11 12 LogL -176.109 212.1744 213.1378 227.7834 228.2417 236.3238 237.4906 241.0192 242.6108 243.0516 247.7065 250.2318 252.927 LR NA 754.9956 1.837557 27.39262 0.840263 14.51786* 2.052729 6.077046 2.682029 0.726661 7.499496 3.975011 4.14265 FPE 0.092788 7.53E-05 7.97E-05 6.54E-05 6.99E-05 6.49e-05* 6.84E-05 6.91E-05 7.24E-05 7.75E-05 7.67E-05 7.91E-05 8.14E-05 AIC 3.298315 -3.81805 -3.76181 -3.95895 -3.89337 -3.968959* -3.91649 -3.90776 -3.86316 -3.79725 -3.80938 -3.78207 -3.75791 SC 3.347984 -3.669038* -3.513466 -3.611268 -3.446343 -3.422599 -3.270795 -3.162727 -3.018787 -2.85354 -2.766329 -2.639681 -2.51618 HQ 3.318454 -3.75763 -3.66112 -3.817978* -3.71211 -3.74743 -3.65469 -3.60568 -3.5208 -3.41461 -3.38646 -3.31887 -3.25443

Results of Table 5.1 confirm the results reported by Trace Statistics that there exists no longrun relationship between SSE (Shanghai stock exchange) and KSE (Karachi Stock Exchange) stock markets. Table 6. Granger causality
Null Hypothesis: KSE does not Granger Cause SSE SSE does not Granger Cause KSE Obs 118 F-Statistic 0.12969 0.17847 Prob. 0.7194 0.6735

Granger causality test is a statistical hypothesis test for determining whether one time series is useful in forecasting another. Granger causality test reports that the KSE granger causes the SSE. Similarly SSE granger causes KSE. It shows that flow of information or relationship exists between SSE (Shanghai Stock Exchange) and KSE (Karachi stock Exchange). Impulse Response Function
Response to Cholesky One S.D. Innovations
Response of SSE to SSE
.10 .08 .06 .04 .02 .00 -.02 1 2 3 4 5 6 7 8 9 10 .10 .08 .06 .04 .02 .00 -.02 1 2 3 4 5 6 7 8 9 10

* indicates lag order selected by the criterion

Response of SSE to KSE

LR: sequential modified LR test statistic (each test at 5% level) FPE: Final prediction error AIC: Akaike information criterion SC: Schwarz information criterion HQ: Hannan-Quinn information criterion Lag selection is a pre-requisite in order to employ cointegration test. To estimate Johansen and Julius (1991) unrestricted VAR is estimated. Schwarz criterion is found minimum at one lag. So one month lag is appropriate lag length. Table 4. Unit root test statistics
ADF Level 0.173406 -1.38012 ADF First Diff. -7.59618 -5.81835 PP Level 0.224065 -1.34179 PP First Diff. -9.65885 -10.049

Response of KSE to SSE

.10 .08 .06 .04 .02 .10 .08 .06 .04 .02 .00 -.02 1 2 3 4 5 6 7 8 9 10 1 2 3

Response of KSE to KSE

KSE SSE Critical Values 1% 5% 10%

-3.48655 -2.88607 -2.57993

-3.48705 -2.88629 -2.58005

-3.48606 -2.88586 -2.57982

-3.48655 -2.88607 -2.57993

.00 -.02

To run co-integration test it is necessary for the data to be stationary of same order. Above tests ensure that this data is

10

Impulse response function shows that one standard deviation change in on market brings what standard deviation

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Muhammad Junaid et al./ Elixir Fin. Mgmt. 63 (2013) 18141-18144 innovations and due to changes in SSE. Conclusively all results shows that SSE and KSE has no long term relationship or impact on each focusing the data of KSE (Karachi stock Exchange) and SSE (Shanghai Stock Exchange). References Agyei-Ampomah, S. (2011). Stock market integration in Africa. Managerial Finance, 37(3), 242-256. Arouri, E.H.M., & Nguyen, D.K. (2010). Time-varying characteristics of cross-market linkages with empirical application to Gulf stock markets. Managerial Finance, 36(1), 57-70. Al Asad, H., & Hoque, B. (2007). Co-movement of Bangladesh stock market with other markets: Co- integration and error correction approach. Journal of Managerial Finance, 33(10), 810-820. Dickey, D. A., & Fuller, W. A., (1981). Likelihood ratio statistics for autoregressive time series with unit root. Econometrica, 49, 1057-1072. Glezakos M., Merika A., & Kaligosfiris. H. (2007). Interdependence of major world stock exchanges: How is the Athens stock exchange affected? International Research Journal of Finance and Economics, 7. Haroon, H., Yasir, H. R., Azeem, S. W., & Ahmed, F. (). International Portfolio Diversification In Developing Equity Markets Of South Asia. Studies in Business and Economics Hassan, A., & Abdullah, S. (2008). Long-run relationships between an emerging equity market and equity markets of the developed world an empirical analysis of Karachi stock exchange. International Research Journal of Finance and Economics- Issue 16. Husain, F., & Saidi, R. (2000).The integration of Pakistani equity market with international equity markets: An investigation. Journal of International Development, 207-218. Hussain, R. Y., Hussain, H., Bhatti, G. A., & Hassan, A. (2012). Long run Relationship among East Asian equity markets and KSE. Management Science Letters , Islam, M. I., Rahimian, E., & Robbani, M.G. (2005). Interdependence of the equity markets of India, Malaysia and Singapore: Tests based on daily equity series. Investment Management and Financial Innovations, 4, 95-104. Johansen, S., & Juselius, K. (1990). Maximum likelihood estimation and inference on co-integration with application to the demand for money. Oxford Bulletin of Economics and Statistics, 52, 169-210. Lamba, A.S. (2005). Analysis of the short- and long-run relationships between south Asian and developed equity markets. International Journal of Business, 10(4), 383-402. Marashdeh, H. (2005). Stock market integration inthe MENA region: An application of the ARDL bounds testing approach. Working Paper, November 2005. Narayan, P., Russell, S., & Nandha, M. (2004). Interdependence and dynamic linkages between the emerging stock markets of South Asia. Accounting and Finance, 44, 419-439.

change in other market. Results from impulse response function show that Karachi Stock Exchange exerts pressure on Karachi Stock Exchange and Shanghai stock exchange exert pressure on Shanghai stock Exchange while KSE and SSE dont exert pressure on each other. Impulse response function shows that KSE is affected by KSE itself and SSE is affected by SSE itself, While SSE and KSE has no effect on each other. Table 7. Variance Decomposition of SSE:
Period 1 2 3 4 5 6 7 8 9 10 S.E. 0.089449 0.092311 0.111157 0.119291 0.127009 0.135577 0.142586 0.149835 0.156538 0.162975 SSE 100 99.95646 86.49447 87.34164 86.92053 86.80814 86.72306 86.4663 86.39962 86.29473 KSE 0 0.043541 13.50553 12.65836 13.07947 13.19186 13.27694 13.5337 13.60038 13.70527

Table 8. Variance Decomposition of KSE:

Period 1 2 3 4 5 6 7 8 9 10 S.E. 0.093044 0.095015 0.096784 0.099677 0.10169 0.104119 0.106239 0.108329 0.110429 0.112455 SSE 2.421411 4.424161 7.88607 13.00973 15.80902 18.67809 21.34455 23.80011 26.12247 28.23013 KSE 97.57859 95.57584 92.11393 86.99027 84.19098 81.32191 78.65545 76.19989 73.87753 71.76987

Variance Decomposition shows the decomposition of variance. It was found that most the changes in SSE are explained by its own market innovations and KSE has no or very little effect on it. Variance Decomposition of KSE shows that variance in KSE returns are caused by its own market innovations and due to changes in SSE. Conclusion This paper focuses on integration among Shanghai Stock Exchange of China and Karachi Stock Exchange of Pakistan. Descriptive statistics employed on the returns showed that KSE has highest returns than SSE. From results obtained through correlation it is evident that there is very slight or negligible correlation among SSE and KSE. Through VAR statistics it is found that one month is appropriate lag length. Co-integration results shows that there exists no long run relationship among SSE and KSE. Impulse response function shows that KSE is affected by KSE itself and SSE is affected by SSE itself, While SSE and KSE has no effect on each other. Variance Decomposition explained that SSE is affected by its own market performance and variance in KSE are caused by its own market